Fitch Downgrades Ryland's IDR to 'BB-'; Outlook to Negative

Fitch Ratings has downgraded its ratings for Ryland Group, Inc. (NYSE: RYL), including the company's Issuer Default Rating (IDR) to 'BB-' from 'BB'. The Rating Outlook has been revised to Negative from Stable. A complete list of ratings follows this release.

The downgrade in RYL's IDR and senior unsecured ratings reflects the still very challenging U.S. housing market which is likely bouncing on the bottom, following a massive cyclical correction. With the recent softening in the economy and lowered economic growth expectations for 2011 and 2012, the environment may at best only support a relatively modest recovery in housing metrics over the next year and a half. Moreover, RYL's underperformance relative to its peers in certain operational and financial categories during recent quarters, and its slimming cash position penalizes the ratings and influences the Outlook.

As expected, the housing recovery has been irregular so far and to date quite anemic. Various housing and related statistics appear to have bottomed in early to mid-2009. Since then the on, then off, then on again federal housing credit at times spurred or at least pulled forward housing demand. With the U.S. economy moving from recession to expansion in the third quarter of 2009, plus very attractive housing affordability and government incentives, housing was jump-started. However, faltering consumer confidence, among other issues, has restrained the recovery so far.

The public homebuilders were generally unprofitable in the calendar first quarter (excluding non-cash real estate charges) and revenues trailed a year ago levels. That was also the case in the calendar second quarter. Builder comparisons ease in the third and fourth quarters. If the economy continues to modestly advance and employment edges up, macroeconomic housing metrics should, for the most part, remain at current levels through the end of this year.

Fitch currently projects new single-family housing starts will drop 13.1% in 2011 following 5.8% growth in 2010. After falling 14.1% in 2010, new home sales are forecast to decrease about 7% in 2011. Fitch expects existing home sales to slip 2% in 2011 after a 4.8% decline in 2010. In a moderately growing economy in 2012, housing metrics could modestly expand, off a very depressed base.

RYL's liquidity slimmed in 2010 and especially so far in 2011. Cash and marketable securities are down about $246 million since the end of 2009. Pressures on liquidity are likely to continue over the next year and a half due to sizeable land and development spending and the possibility that EBITDA may not cover interest expense.

The ratings also reflect RYL's business model, its conservative building practices, focus on entry-level and first-step trade-up customers (the largest segments of the market), moderate financial policies, geographic and product line diversity and its capital structure.

RYL's significant ranking (within the top five or top 10) in most of its markets, its presale operating strategy and a return on capital focus provided the framework to soften the impact on margins from declining market conditions. Acquisitions have not played a part in RYL's operating strategy, as management has preferred to focus on internal growth (expanding its position in existing markets and occasional greenfield new market entries) during the expansion phase in the cycle.

RYL ended the second quarter with $182.3 million of unrestricted cash and $359 million of available for sale marketable securities. The company terminated its revolving credit facility during the second quarter of 2009 and subsequently entered into various letters of credit agreements that are secured by cash deposits. At June 30, 2011, letters of credit totaling $75.1 million were outstanding under these agreements. Consistent with Fitch's comment on homebuilders' termination of revolving credit facilities, in the absence of a revolving credit line, a consistently higher level of cash and equivalents than was typical should be maintained on the balance sheet, especially in these still uncertain times. RYL last accessed the capital markets during 2009 and 2010 and used these debt proceeds to redeem some of its existing debt. As a result, the company has pushed out its maturities, with no major debt coming due until June 2013 ($186 million).

RYL employs conservative land and construction strategies. The company only buys entitled land and under normal market conditions tries to keep an approximately three to four year supply of lots under control. As of June 30, 2011, 26.8% of its lots were controlled through options - a much lower than typical percentage due to considerable option abandonments and write-offs of recent years. Owned lots represented 66.6% of the total, while JV lots accounted for 6.6%. Total lots, including those owned and controlled through joint ventures, were 25,165 at June 30, 2011. This represents a 7.6-year supply of total lots controlled based on trailing 12 months deliveries. RYL has a 5.0-year supply of owned land.

During the past two years, RYL has been re-building its land position and opportunistically acquiring real estate at attractive prices, supported by its strong liquidity. RYL currently projects to spend roughly $300 million on land acquisitions and $100 million on development expenditures during 2011. The company spent $253 million for land and $76 million on land development in 2010.

RYL reported a negative $93.9 million of cash from operations during the first half of 2011. During the first half of 2010 the company generated cash flow from operations of $67.7 million, including a federal tax refund of $100.5 million resulting from the carryback of RYL's 2009 operating loss to offset earnings generated in 2004 and 2005. For the LTM period from June 30, 2011, the company reported a negative $230.9 million cash flow from operations. The company was consistently cash flow positive from the second quarter of 2008 through the second quarter of 2010. It has reported negative cash flow from operations each quarter since then.

For all of fiscal 2011, Fitch expects RYL to be cash flow negative as the company continues to rebuild its land position. Negative cash flow is typical in the early stages of a housing recovery for many of the large public builders. Fitch is relatively comfortable with this strategy given the company's current liquidity position, well-laddered debt maturity schedule, proven access to the capital markets and management's demonstrated discipline in pulling back on land and development spending and improving its liquidity when the economy and housing contract.

Future ratings and Outlooks will be influenced by broad housing market trends as well as company specific activity, such as trends in land and development spending, general inventory levels, speculative inventory activity (including the impact of high cancellation rates on such activity), gross and net new order activity, debt levels, free cash flow trends and uses, and the company's cash position.

Fitch has downgraded the following ratings for Ryland Group, Inc.:

--IDR to 'BB-' from 'BB';

--Senior unsecured debt to 'BB-' from 'BB'.

The Rating Outlook has been revised to Negative from Stable.

Additional information is available at 'www.fitchratings.com'.

Applicable Criteria and Related Research:

--'Corporate Rating Methodology' (Aug. 26, 2011);

--'Liquidity Considerations for Corporate Issuers' (June 12, 2007).

Applicable Criteria and Related Research:

Corporate Rating Methodology

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=647229

Liquidity Considerations for Corporate Issuers

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=328666

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